On the number of brackets in piecewise linear income tax systems: An application

Abstract

This thesis aims to explore the welfare impacts of using different number of brackets to collect a specific amount of tax revenue in a piecewise linear income tax system. It does this by analyzing the effect of the number of brackets on optimal cut-off income levels as well as marginal tax rates for each bracket. Individuals with different abilities (wages) have a standard utility function defined over a consumption good and labor hours, whereas the social planner has increasing and strictly concave social welfare function. The model is simulated for Turkey using the 2014 Household Labor Force Survey Data of the Turkish Statistical Institute. Taking into account labor supply responses of each individual into account, the simulations using one, two, and three-brackets searched for the optimal cut-off income levels and marginal tax rates for each bracket to raise the same income tax revenue collected from a reference sample in 2014. Total social welfare in all simulations are higher than the current four-bracket piecewise linear tax system achieved.